Fed Tightening Cycles & USD Performance

by Ashraf Laidi
Sep 7, 2015 15:53 | 29 Comments

Is the peak of the US dollar behind us?  Depending on your USD measure of choice, the dollar may have already peaked, when using EUR and JPY, the two largest and most liquid currencies aside from the greenback. If the bulk of the USD bull market starting in summer 2014 was based on heightened expectations of a Fed hike, then would an actual Fed hike signal the peak of the US dollar? Here is our analysis on the response of the US dollar to each of the last three Fed tightening cycles (1994-1995, 1999-2000 and 2004-2006). One common theme was found.

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Fed Tightening Cycles & USD Performance - Fedfunds Usdx Sep 7 (Chart 1)

1994-1995 Tightening Cycle

As the Fed began raising rates in February 1994, the US dollar index wasted little time to fall more than 10% in the ensuing six months before stabilizing towards the end of the year and subsequently dropping an additional 7%. Among the main reasons to the USD selloff (despite the easy monetary policy pursued by Germany and Japan) was the resulting bond market crash following Greenspan's tightening, which eroded demand for the US currency. The resulting 10% decline in US equity indices didn't help the greenback either. Despite seven Fed hikes in 1994, the USD lost 5%-15% against all major currencies, with the  exception of the CAD against which, it rallied 6%. In 1995, USD lost against all major currencies, except for GBP, JPY and AUD.

1999-2000 Tightening Cycle

The 1999-2000 Fed tightening cycle was the most positive for the greenback due to three main reasons: i) interest rates took off from a higher level of 5.00%, compared to 3.00% in 1999 and 1.00% in 2006; ii) the Clinton Administration's “strong  USD” policy consisted of rhetoric backed by US-bound global capital flows as the euro crashed during its first two years due to policy errors from the ECB; iii) US-Eurozone interest and yield differentials remained firmly in favour of the US. The “New Economy” espoused by Greenspan's low-inflation-high-growth paradigm made the US stock market the only game in town as US technology stocks served as a magnet for global capital flows and emerging markets (Brazil, Russia and Asia) broke down.

2004-2006 Tightening Cycle

The Fed's 125-bps in rate hikes of 2004 didn't prevent the USD from having one of its worst years in recent history, falling against all ten top-traded currencies. Already in a 2-year bear market, the greenback went from bad to worse due to a swelling trade and budget deficit.  A nascent global recovery, led by commodities and their currencies was a major negative for the buck. 2005 proved the only positive exception for the US dollar in the 2 ½ years of Fed tightening due to a temporary US tax law encouraging US multinationals to repatriate profits. But the USD rally fizzled in December 2005 over the ensuing two years, turning into a prolonged USD selloff, courtesy of a secular bull markets in commodities and higher-yielding currencies elsewhere.


The USD appreciation from last summer into early spring 2015 is typical of pre-Fed hike rallies. If the Fed does tightening this autumn, will the greenback's gains could well fade away. Despite notable labour market gains, the inflation requirement remains in doubt. The 20% decline in oil since early May will further delay any recovery in price growth, which has prompted the Fed to drop its phrase in the FOMC statement that “energy prices have stabilized”.  

China's devaluation is increasingly becoming the biggest barrier to any Fed tighening due to the negative growth impact on the world economy, global price growth and financial markets stability, discussed widely in this website.  

It will be difficult for the Fed to raise rates this year if US crude oil remains below $48.00—The October-March decline has already triggered a chain reaction of broadening cuts in capital and labour expenditure from big oil and iron ore producers, which effectively cast a spell on the suppliers of these energy and mining companies.  And barely when oil began its spring time recovery, the declines emerged anew.

Fed hawks will ignore inflation and focus on unemployment, payrolls and wages. They will add that the non-accelerating inflation rate of unemployment aka equilibrium level of unemployment is at 5.3%-5.5%, matching the current unemployment rate of 5.3%.  Fed doves will point to the fact that inflation has remained below its 2.0% target for the last three years, while the true NAIRU stands a lower 5.0%.
Dissecting market and survey-based measures of inflation will become a popular sport in the months to come.

And finally, if the Fed does raise rates, it will most likely be one-&-done rate hike, owing to the deflationary pressures weighing down through commodities. At this juncture, the peak of the USD bull market is already behind us.

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https://www.gold-pattern.com/, Egypt
Posts: 0
7 days ago
Dec 1, 2019 14:17

Elliott used the word "failure" to describe a situation in which the fifth wave does not move beyond the end of the third. We prefer the less connotative term, "truncation," or "truncated fifth." A truncation can usually be verified by noting that the presumed fifth wave contains the necessary five subwaves, as illustrated in Figures 1-11 and 1-12. Truncation often occurs following an extensively strong third wave.

The U.S. stock market provides two examples of major degree truncated fifths since 1932. The first occurred in October 1962 at the time of the Cuban crisis (see Figure 1-13). It followed the crash that occurred as wave 3. The second occurred at year-end in 1976 (see Figure 1-14). It followed the soaring and broad wave (3) that took place from October 1975 to March 1976.

Diagonal Triangles
A diagonal triangle is a motive pattern yet not an impulse, as it has one or two corrective characteristics. Diagonal triangles substitute for impulses at specific locations in the wave structure. As with impulses, no reactionary subwave fully retraces the preceding actionary subwave, and the third subwave is never the shortest. However, diagonal triangles are the only five-wave structures in the direction of the main trend within which wave four almost always moves into the price territory of (i.e., overlaps) wave one. On rare occasions, a diagonal triangle may end in a truncation, although in our experience such truncations occur only by the slimmest of margins.
Ending Diagonal
An ending diagonal is a special type of wave that occurs primarily in the fifth wave position at times when the preceding move has gone "too far too fast," as Elliott put it. A very small percentage of ending diagonals appear in the C wave position of A-B-C formations. In double or triple threes (to be covered in Lesson 9), they appear only as the final "C" wave. In all cases, they are found at the termination points of larger patterns, indicating exhaustion of the larger movement.
Ending diagonals take a wedge shape within two converging lines, with each subwave, including waves 1, 3 and 5, subdividing into a "three," which is otherwise a corrective wave phenomenon. The ending diagonal is illustrated in Figures 1-15 and 1-16 and shown in its typical position in larger impulse waves. Figure 1-15 Figure 1-16
We have found one case in which the pattern's boundary lines diverged, creating an expanding wedge rather than a contracting one. However, it is unsatisfying analytically in that its third wave was the
shortest actionary wave, the entire formation was larger than normal, and another interpretation was possible, if not attractive. For these reasons, we do not include it as a valid variation.
Ending diagonals have occurred recently in Minor degree as in early 1978, in Minute degree as in February-March 1976, and in Subminuette degree as in June 1976. Figures 1-17 and 1-18 show two of these periods, illustrating one upward and one downward "real-life" formation. Figure 1-19 shows our real-life possible expanding diagonal triangle. Notice that in each case, an important change of direction followed.

Although not so illustrated in Figures 1-15 and 1-16, fifth waves of diagonal triangles often end in a "throw-over," i.e., a brief break of the trendline connecting the end points of waves one and three. Figures 1-17 and 1-19 show real life examples. While volume tends to diminish as a diagonal triangle of small degree progresses, the pattern always ends with a spike of relatively high volume when a throw-over occurs. On rare occasions, the fifth subwave will fall short of its resistance trendline.
A rising diagonal is bearish and is usually followed by a sharp decline retracing at least back to the level where it began. A falling diagonal by the same token is bullish, usually giving rise to an upward thrust.
Fifth wave extensions, truncated fifths and ending diagonal triangles all imply the same thing: dramatic reversal ahead. At some turning points, two of these phenomena have occurred together at different degrees, compounding the violence of the next move in the opposite direction.
https://www.gold-pattern.com/, Egypt
Posts: 0
20 days ago
Nov 17, 2019 19:45
All waves may be categorized by relative size, or degree. Elliott discerned nine degrees of waves, from the smallest wiggle on an hourly chart to the largest wave he could assume existed from the data then available. He chose the names listed below to label these degrees, from largest to smallest:
Grand Supercycle Supercycle Cycle Primary Intermediate Minor Minute Minuette Subminuette
It is important to understand that these labels refer to specifically identifiable degrees of waves. For instance, whenwe refer to the U.S. stock market's rise from 1932, we speak of it as a Supercycle with subdivisions as follows:
1932-1937 the first wave of Cycle degree
1937-1942 the second wave of Cycle degree
1942-1966 the third wave of Cycle degree
1966-1974 the fourth wave of Cycle degree
1974-19?? the fifth wave of Cycle degree
Cycle waves subdivide into Primary waves that subdivide into Intermediate waves that in turn subdivide into Minor and sub-Minor waves. By using this nomenclature, the analyst can identify precisely the position of a wave in the overall progression of the market, much as longitude and latitude are used to identify a geographical location. To say, "the Dow Jones Industrial Average is in Minute wave v of Minor wave 1 of Intermediate wave (3) of Primary wave [5] of Cycle wave I of Supercycle wave (V) of the current Grand Supercycle" is to identify a specific point along the progression of market history.
When numbering and lettering waves, some scheme such as the one shown below is recommended to differentiate the degrees of waves in the stock market's progression:

The most desirable form for a scientist is usually something like 11, 12, 13, 14, 15, etc., with subscripts denoting degree, but it's a nightmare to read such notations on a chart. The above tables provide for rapid visual orientation. Charts may also use color as an effective device for differentiating degree.
In Elliott's suggested terminology, the term "Cycle" is used as a name denoting a specific degree of wave and is not intended to imply a cycle in the typical sense. The same is true of the term "Primary," which in the past has been used loosely by Dow Theorists in phrases such as "primary swing" or "primary bull market." The specific terminology is not critical to the identification of relative degrees, and the authors have no argument with amending the terms, although out of habit we have become comfortable with Elliott's nomenclature.
The precise identification of wave degree in "current time" application is occasionally one of the difficult aspects of the Wave Principle. Particularly at the start of a new wave, it can be difficult to decide what degree the initial smaller subdivisions are. The main reason for the difficulty is that wave degree is not based upon specific price or time lengths. Waves are dependent upon form, which is a function of both price and time. The degree of a form is determined by its size and position relative to component, adjacent and encompassing waves.
This relativity is one of the aspects of the Wave Principle that make real time interpretation an intellectual challenge. Fortunately, the precise degree is usually irrelevant to successful forecasting since it is relative degree that matters most. Another challenging aspect of the Wave Principle is the variability of forms, as described through Lesson 9 of this course.
Melbourne, Australia
Posts: 0
4 years ago
Jan 9, 2016 12:34
Excellent Ashraf.
You always impress me by the depth of your knowledge and analysis. Thank you indeed for this article. Really is an eye opener for the traders. Regards.